MUTUAL FUNDS REPORT; Fast-Growing Stocks Led to Rich Returns

By CAROLE GOULD

Published: January 8, 2006

FAST-GROWING companies, from warehouse retailers to technology and Internet businesses, bolstered the returns of some top-performing stock mutual funds in the fourth quarter of 2005. Managers of three of those funds talked about their winning stocks and what they saw ahead for the market.

All About Growth

Growth companies with strong competitive positions helped the Morgan Stanley funds secure several places among the quarter's winners. Its success stories included the $371.6 million Morgan Stanley Capital Opportunities fund, up 9.61 percent; the $322.3 million Aggressive Equity, up 9.58 percent; and the $690.8 million Growth fund, up 7.97 percent. All three have minimum initial investments of $1,000 and sales charges of 5.25 percent.

Two institutional funds from Morgan Stanley also made the list: the $897 million Institutional U.S. Large Cap Growth, up 7.94 percent, and the $64.1 million Institutional Focus Equity, up 7.3 percent.

Dennis P. Lynch, 35, manages or oversees all these funds as Morgan Stanley's domestic growth equity manager. He says his team of eight investors seeks companies with strong competitive advantages that let them sustain strong growth over at least two to three years.

Among them is Costco Wholesale, the membership warehouse retailer; its shares rose 14.8 percent in the quarter. It has a loyal customer base, Mr. Lynch said. ''We believe that Costco's business model, which generates strong free cash flow and business visibility, is underappreciated,'' he added.

Another winner was one of the funds' few foreign holdings, Am?ca M?, based in Mexico City. Its shares rose 11.2 percent. The company is a leading wireless service provider in Latin America, ''where penetration is just beginning to take off,'' Mr. Lynch said. ''When penetration reaches 30 percent levels, subscriber growth tends to accelerate. That's the tipping point.''

Another holding, Monsanto, was up 24 percent. Monsanto produces herbicide and agricultural products including genetically modified seeds for crops. ''The company is transforming itself from a pesticide company to a genetically modified seed producer,'' Mr. Lynch said. He called that ''a huge growth area.''

Mr. Lynch would not comment on the overall stock market for the coming year. ''We feel confident making decisions about our companies,'' he said, ''but we have no idea what might happen at the bigger level.''

Finding Sleepers

The $68 million Oberweis Micro-Cap fund gained 7.49 percent in the quarter. James W. Oberweis, 31, picks the fund's 90 stocks from among companies with market capitalizations of less than $250 million at the time of purchase. He seeks ''small, very rapidly growing companies that have not yet hit the radar of the mainstream Wall Street community,'' he said. Average annual earnings and revenue growth of the companies exceeds 50 percent a year.

The fund made money in Bodisen Biotech, an organic fertilizer manufacturer based in China; its stock rose 7.5 percent. Mr. Oberweis says that the company is still undervalued and that he expects earnings growth exceeding 80 percent in 2006 as Chinese farmers increasingly embrace the use of organic fertilizer.

Another winner was the Hurco Companies, an Indianapolis producer of computerized machine tools for the metal-cutting industry. Its shares rose 89 percent on what Mr. Oberweis called a ''significant number of new orders.''

Shares of ID Systems in Hackensack, N.J., rose 21 percent. The company produces wireless monitoring and tracking systems for airports, post offices and industrial companies. Mr. Oberweis expects earnings growth of more than 200 percent in 2006. ''Most of their cost is in research and development,'' he said, ''so they can ramp up their earnings much faster than their sales.''

The two big stock-market questions for 2006, he said, are whether large companies will eclipse smaller ones, and whether growth will eclipse value. ''Most recently, the place to be was in value stocks,'' he said. ''It wouldn't surprise me if that changed'' in 2006. Over all, he calls himself ''optimistic.''

Father and Son

The $152 million Pin Oak Aggressive Stock fund returned 6.5 percent in the quarter. James D. Oelschlager, 63, manages the fund with his son, Mark W. Oelschlager, 36. They concentrate on a small number of companies and industry sectors that they expect to do well in the long term, James Oelschlager said. Because the fund holds only about 20 stocks, it can be more volatile than more diversified portfolios.

Its current focus is the ''the benefits of the Internet, and the changes to the world that the Internet brings,'' Mr. Oelschlager said. The fund's holdings include shares of Google and eBay, each of which accounts for 7 percent of the portfolio.

Its lesser-known winners include Blue Nile, based in Seattle, an online retailer of diamonds, jewelry and watches. The company's shares rose 27 percent in the fourth quarter, based on ''a gradual realization by the market of the strength of its business model,'' Mr. Oelschlager said. The company signs exclusive distribution agreements with diamond wholesalers, he said, so ''wholesalers get rid of extra product, and consumers get product at lower prices than they would from Tiffany or from a local retailer.''

The fund also made money in Avid Technology, based in Tewksbury, Mass.; its shares rose 32 percent. The company -- which develops and markets software and hardware for digital media production, management and distribution -- is at the forefront of what Mr. Oelschlager calls a ''sea change'' among newsrooms and broadcasters moving from analog to digital equipment.

Another winner was Rockwell Automation, up 12 percent. Rockwell, based in Milwaukee, is a big maker of factory controls. ''Global competition is fiercer than it's ever been, and companies have no choice but to become more efficient to remain competitive,'' Mr. Oelschlager said. By installing Rockwell's equipment, he said, companies can improve productivity.

He calls himself an ''eternal optimist'' about the market over all. ''Market prices haven't kept up with earnings growth,'' he said. While value stocks have outpaced growth stocks recently, ''we think that it's time for that to change again, and growth will outperform value.''

Photos: James W. Oberweis says that his Oberweis Micro-Cap fund seeks out small, fast-growing companies that are under Wall Street's radar. (Photo by Peter Thompson for The New York Times); The Internet and ''changes to the world that the Internet brings'' are now the focus of the Pin Oak Aggressive Stock fund, said James Oelschlager. (Photo by Barney Taxel for The New York Times); Dennis P. Lynch of Morgan Stanley says his team looks for companies with competitive advantages that allow them to sustain growth. (Photo by Morgan Stanley)

Chart: ''Ahead of the Pack''
Here is how three of the best-performing stock funds in the last quarter fared against the overall market and their peer groups.